The recent decision of Justice Black, In the matter of Shepherds Producers Co-Operative Ltd (in liq) [2012] NSWSC 390, has applied the provisions of Section 564 of the Corporations Act to circumstances where creditors of an entity in liquidation have provided funds to the liquidators to conduct public examinations.
Section 564 of the Corporations Act provides the Court with a discretionary power, in a winding up, to distribute property recovered through litigation that is funded or indemnified by certain creditors.
Ordinarily, Section 564 is invoked in circumstances where creditors provide funding or indemnities for litigation that directly results in the recovery of property. However, in the Shepherds decision, the Court held that Section 564 can also be invoked in favour of creditors that fund the public examinations that lead to litigation and ultimately the recovery of property.
The liquidators of the insolvent entity made an application to the Court for orders under Section 564 permitting preferential payment to creditors who provided funds to the liquidators to conduct public examinations.
The liquidators had sent notices to the creditors inviting contributions to cover the costs of the examination process (estimated at $90,000). The notice informed creditors that such costs were speculative in nature, but stated that an application might later be made to the Court to grant priority to the creditors who provided funding in the distribution of any funds subsequently recovered.
A number of creditors provided funding to the liquidators and the examinations were able to proceed. Evidence was before the Court that those examinations could not have been conducted without that funding.
Based on the information obtained during the examinations, the liquidators were able to obtain funding from a litigation funder to conduct further examinations and ultimately bring proceedings for an insolvent trading claim. The insolvent trading claim was eventually settled with the liquidators receiving a significant sum of money for the liquidation.
In those circumstances, the liquidators sought orders permitting the distribution of the whole of the residual amount available in the winding up (being the funds recovered from the settlement of the litigation less costs and expenses) to the creditors that had funded the initial examinations, with the other creditors receiving nothing.
The judge granted the orders sought by the liquidator. In reaching his conclusion, the judge found that had it not been for the risk taken by those creditors providing the funding for the initial examinations, there would have been no funds available for distribution.
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